Principles of Finance 6e Chapter 1
Besley/Brigham
CHAPTER 1
ANSWERS
1-1 At the beginning of the twentieth century, the study of finance was mostly descriptive. As the
proliferation of electronics and information technology has grown in recent decades, the study of
finance has shifted toward more analytical methods.
At the beginning of the century, managerial finance focused on mergers and acquisitions,
investments were held mostly by powerful individuals or groups, and the banking system consisted
of thousands of independent banking organizations that were primarily small, hometown banks.
There was a shift toward greater regulation and control of financial services organizations after the
financial disasters that occurred during the Depression era of the late 1920s and early 1930s. At that
time, managerial finance was concerned with bankruptcy issues, the investments arena became
substantially more regulated with the birth of the Securities and Exchange Commission (SEC), and
the banking system went through significant restructuring with the failure of more than 6,000 banks.
Modern finance finds its roots in the second half of the century when increased competition reduced
the profit opportunities available to firms, so more emphasis was placed on evaluating the value of
investment projects; small, individual investors became more active in the stock markets as mutual
funds became popular; and, the restrictions on banking operations in the United States were eased
as international competition increased in the banking industry.
1-2 Simply stated, finance deals with how firms generate and use funds. To do a good job, people in
marketing must understand how marketing decisions affect and are affected by funds availability, by
inventory levels, by excess plant capacity, and so forth. Similarly, accountants must understand how
accounting data are used in corporate planning and are viewed by investors. Some knowledge of
the financial function is necessary to do a good job in other areas of the firm. At the same time,
however, financial managers must have an understanding of marketing, accounting, and so forth, to
make more informed decisions about replacement or expansion of plant and equipment and about
how to best finance their firms.
1-3 As we will show in later chapters, the financial decisions corporations make concern how to raise
funds (sources) when they are needed and how invest funds that are available. As an individual, we
make the same decisions—when we buy and car or a house, we search for the appropriate funding
sources (in most cases the cheapest), and when we have excess funds, we decide what
investments should be made. Although our discussions focus on corporations, the techniques
described in this book can also be applied by individuals to make personal decisions.
1-4 As a general rule of thumb, the government is fairly friendly to business when economic conditions
are good and individuals are prospering because of the conditions. However, when an economic
disaster occurs, traditionally, there are cries for new, tougher regulations to rein in those individuals,
organizations, and practices that are considered to have contributed to the downturn.
1-5 Value is measured as the present value of the cash flows that an investment is expected to
generate during its life. The three factors that determine value are: (1) the amount of the future cash
flows, (2) the timing of the future cash flows, and (3) investors’ required rate of return. If the amount
of the cash flows increases, the cash flows are received sooner, investors’ required rate of return
decreases, or any combination of these events occur, the value of an investment will increase.
1-6 The value of a firm can be measured by the market value of its stock. Thus, the firm maximizes
value/wealth by maximizing the value of its stock.
1-1
© 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed
with a certain product or service or otherwise on a password-protected website for classroom use.
, Chapter 1 Principles of Finance 6e
Besley/Brigham
1-7 Sustainability refers to the process by which we live and interact with businesses, governments,
other humans, and so forth, and how both the current environment and the future environment are
affected by the actions of all of these stakeholders.
1-8 A firm might be able to survive in the short term if it does not consider the effects its business
decisions have on stakeholders, but it cannot survive in the long term unless its decisions help to
satisfy the needs of its stakeholders, including the environment. If customers are not treated
“correctly,” they will become customers of the firm’s competitors; if employees are not treated
“correctly,” they will go to work for other companies; if the local community is not treated “correctly,”
legal action or legislation might restrict the company’s actions; and, if the environment is not treated
“correctly,” future environmental factors or new government regulation might result in the ruin of the
firm.
1-9 Lean manufacturing refers to the integration of the entire production process in an attempt to use
the least amount of resources needed to manufacture and sell products. Firms that adhere to the
concepts of lean manufacturing attempt to eliminate excesses (“fat”) so as to become as efficient as
possible.
1-10 Lean manufacturing and value maximization go hand-in-hand. To maximize value, a firm
(investment) should maximize the net cash inflows generated during its life. A firm that follows lean
manufacturing techniques reduces waste, thus minimizes cash outflows associated with costs,
which helps to maximize net cash inflows.
──────────────────────────────────────
SOLUTIONS
1-1 Integrative Problem
a. Finance deals with decisions about money—that is, how money is raised and used by
companies and individuals. Because value is based on cash flows, finance is integral to the
successful operations of a firm. To be successful, a firm needs to understand how to raise
funds, how much it costs to use investors’ money, and how to appropriately invest funds.
b. The general areas of finance include:
Financial markets and institutions—includes the study of (1) financial markets, such as the
stock markets and the bond markets and (2) participants in the markets, such as banks,
insurance companies, pension funds, and so forth that “manufacture” various financial
instruments, including mortgages, auto loans, retirement funds, and savings plans.
Investments—includes persons who determine (1) the values and risk and return relationships
associated with financial assets, such as stocks and bonds and (2) the best combination of
securities that should be held in a portfolio to meet specific investment goals.
Financial services—refers to services provided by organizations such as brokerage firms,
banks, insurance companies, and so forth. These services relate primarily to the financial
stability of individuals both in the current period and in the future.
Managerial finance—deals with the decisions that businesses make concerning their cash
flows. Businesses make decisions about how to raise funds (financing) and what to do with the
funds that are raised (investments). The techniques used to make such decisions are part
managerial finance.
1-2
© 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed
with a certain product or service or otherwise on a password-protected website for classroom use.
Besley/Brigham
CHAPTER 1
ANSWERS
1-1 At the beginning of the twentieth century, the study of finance was mostly descriptive. As the
proliferation of electronics and information technology has grown in recent decades, the study of
finance has shifted toward more analytical methods.
At the beginning of the century, managerial finance focused on mergers and acquisitions,
investments were held mostly by powerful individuals or groups, and the banking system consisted
of thousands of independent banking organizations that were primarily small, hometown banks.
There was a shift toward greater regulation and control of financial services organizations after the
financial disasters that occurred during the Depression era of the late 1920s and early 1930s. At that
time, managerial finance was concerned with bankruptcy issues, the investments arena became
substantially more regulated with the birth of the Securities and Exchange Commission (SEC), and
the banking system went through significant restructuring with the failure of more than 6,000 banks.
Modern finance finds its roots in the second half of the century when increased competition reduced
the profit opportunities available to firms, so more emphasis was placed on evaluating the value of
investment projects; small, individual investors became more active in the stock markets as mutual
funds became popular; and, the restrictions on banking operations in the United States were eased
as international competition increased in the banking industry.
1-2 Simply stated, finance deals with how firms generate and use funds. To do a good job, people in
marketing must understand how marketing decisions affect and are affected by funds availability, by
inventory levels, by excess plant capacity, and so forth. Similarly, accountants must understand how
accounting data are used in corporate planning and are viewed by investors. Some knowledge of
the financial function is necessary to do a good job in other areas of the firm. At the same time,
however, financial managers must have an understanding of marketing, accounting, and so forth, to
make more informed decisions about replacement or expansion of plant and equipment and about
how to best finance their firms.
1-3 As we will show in later chapters, the financial decisions corporations make concern how to raise
funds (sources) when they are needed and how invest funds that are available. As an individual, we
make the same decisions—when we buy and car or a house, we search for the appropriate funding
sources (in most cases the cheapest), and when we have excess funds, we decide what
investments should be made. Although our discussions focus on corporations, the techniques
described in this book can also be applied by individuals to make personal decisions.
1-4 As a general rule of thumb, the government is fairly friendly to business when economic conditions
are good and individuals are prospering because of the conditions. However, when an economic
disaster occurs, traditionally, there are cries for new, tougher regulations to rein in those individuals,
organizations, and practices that are considered to have contributed to the downturn.
1-5 Value is measured as the present value of the cash flows that an investment is expected to
generate during its life. The three factors that determine value are: (1) the amount of the future cash
flows, (2) the timing of the future cash flows, and (3) investors’ required rate of return. If the amount
of the cash flows increases, the cash flows are received sooner, investors’ required rate of return
decreases, or any combination of these events occur, the value of an investment will increase.
1-6 The value of a firm can be measured by the market value of its stock. Thus, the firm maximizes
value/wealth by maximizing the value of its stock.
1-1
© 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed
with a certain product or service or otherwise on a password-protected website for classroom use.
, Chapter 1 Principles of Finance 6e
Besley/Brigham
1-7 Sustainability refers to the process by which we live and interact with businesses, governments,
other humans, and so forth, and how both the current environment and the future environment are
affected by the actions of all of these stakeholders.
1-8 A firm might be able to survive in the short term if it does not consider the effects its business
decisions have on stakeholders, but it cannot survive in the long term unless its decisions help to
satisfy the needs of its stakeholders, including the environment. If customers are not treated
“correctly,” they will become customers of the firm’s competitors; if employees are not treated
“correctly,” they will go to work for other companies; if the local community is not treated “correctly,”
legal action or legislation might restrict the company’s actions; and, if the environment is not treated
“correctly,” future environmental factors or new government regulation might result in the ruin of the
firm.
1-9 Lean manufacturing refers to the integration of the entire production process in an attempt to use
the least amount of resources needed to manufacture and sell products. Firms that adhere to the
concepts of lean manufacturing attempt to eliminate excesses (“fat”) so as to become as efficient as
possible.
1-10 Lean manufacturing and value maximization go hand-in-hand. To maximize value, a firm
(investment) should maximize the net cash inflows generated during its life. A firm that follows lean
manufacturing techniques reduces waste, thus minimizes cash outflows associated with costs,
which helps to maximize net cash inflows.
──────────────────────────────────────
SOLUTIONS
1-1 Integrative Problem
a. Finance deals with decisions about money—that is, how money is raised and used by
companies and individuals. Because value is based on cash flows, finance is integral to the
successful operations of a firm. To be successful, a firm needs to understand how to raise
funds, how much it costs to use investors’ money, and how to appropriately invest funds.
b. The general areas of finance include:
Financial markets and institutions—includes the study of (1) financial markets, such as the
stock markets and the bond markets and (2) participants in the markets, such as banks,
insurance companies, pension funds, and so forth that “manufacture” various financial
instruments, including mortgages, auto loans, retirement funds, and savings plans.
Investments—includes persons who determine (1) the values and risk and return relationships
associated with financial assets, such as stocks and bonds and (2) the best combination of
securities that should be held in a portfolio to meet specific investment goals.
Financial services—refers to services provided by organizations such as brokerage firms,
banks, insurance companies, and so forth. These services relate primarily to the financial
stability of individuals both in the current period and in the future.
Managerial finance—deals with the decisions that businesses make concerning their cash
flows. Businesses make decisions about how to raise funds (financing) and what to do with the
funds that are raised (investments). The techniques used to make such decisions are part
managerial finance.
1-2
© 2015 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed
with a certain product or service or otherwise on a password-protected website for classroom use.
